Public-private pay comparison mired in uncertainty

Mar. 15, 2013

Firefighters and police respond to a car fire in front of 505 St. Clair St. on Feb. 8, 2013, in Manitowoc. / Matthew Apgar/Herald Ttimes Reporter Media

Studies: Wisconsin public/private divide among largest in the nation

Disagreement over study methodologies muddles the public-private comparison when narrowing the focus to Wisconsin, but nationwide studies appear to show a larger compensation divide here than elsewhere. Preliminary findings by Andrew Biggs of the American Enterprise Institute and Jason Richwine of the Heritage Foundation show Wisconsin’s pay and benefits premium for public workers is the 13th-largest in the country, when applying the same study methodology to each state. The forthcoming study — which looks only at state employees — places the public sector premium at 21 percent in Wisconsin, compared to a national average of 15 percent. The best-paying states had compensation as much as 40 percent above the private sector, while others provided compensation as much as 5 percent below the private sector. The study used data from 2009-12. The number is slightly lower than the pair’s 2012 study because Biggs and Richwine excluded public safety workers and tweaked their methodology for the nationwide analysis, Biggs said. William Even, an economics professor at Miami University in Ohio, broke down the public/private comparison by the nine U.S. Census regions, and again showed Wisconsin is above average. The region that includes Wisconsin, Illinois, Indiana, Michigan and Ohio showed a 16.5 percent pay and benefits premium for public workers. That is third-highest among the regions but still 2.5 percent below the premium that Even calculated for Wisconsin. The other eight Census regions ranged from a high of 34.2 percent to one region showing private pay and benefits were 1.7 percent higher. The studies show public employees nationwide had better pay and benefits, in line with a 2011 study by research economists with the U.S. Bureau of Labor Statistics. Maury Gittleman and Brooks Pierce said state government workers receive pay and benefits 3 to 10 percent above “observably similar private sector workers,” while local government workers receive 10 to 19 percent more, depending on the methodology and data used. Wisconsin also has comparatively high health insurance costs, according to a 2012 study by the National Conference of State Legislatures. The comparison is based on figures computed after the imposition of Act 10, which more than doubled the employee contribution to 12.4 percent of premium cost. The study of state employee plans showed the Wisconsin share of monthly premiums was $2,318 for the standard family plan, $300 more than any other state and double the national average among the 45 states that provided data. The state’s standard individual plan was the second most costly among the 43 states that provided data, at $929 per month. An analysis of the lowest-cost option in each state showed the state share in Wisconsin was the 14th-highest for individuals and the 10th-highest for families. Source: Eric Litke, Gannett Wisconsin Media Investigative Team

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Are Wisconsin’s public employees overpaid?

The question is fundamental to judging the cost effectiveness of government and the necessity of the polarizing Act 10, in which Gov. Scott Walker instituted dramatic benefit cuts for unionized public workers to help balance the budget.

But scholars disagree substantially on how Wisconsin’s public and private workers compare in terms of wages.

Two recent studies show salaries and benefits for public workers are about 20 percent more than comparable private workers, but another study asserts public workers make 5 percent less. The key divide is over how to calculate retirement benefits.

“There’s no definitive answer,” said Dale Knapp, research director of the Wisconsin Taxpayers Alliance. “You can find research that says one thing, and you can find research that says another. That’s what makes the question so hard.”

The public-private comparison is particularly relevant in Wisconsin after Act 10. Public employees traditionally enjoy earlier retirements, richer benefits and better job security, but one worker who recently transitioned to the private sector said it’s difficult to compare compensation.

“My experience has been, the money will come regardless ... if you have a certain drive and a certain desire to take on more responsibility,” said David Walsh, former Appleton police chief and current vice president of leadership and organization at Town of Menasha-based Miron Construction Co.

Walsh said in his experience, public sector pay is more predictable since government entities tend to have an established wage scale. Pay in the private sector is more dependent on job performance, company health and market factors, he said.

Public employers also have a more compressed pay scale, said Charlie Carlson, a Middleton labor expert who has done public-private compensation comparisons for municipalities across the state. He told Gannett Wisconsin Media that local governments typically pay less than private employers to top managers, roughly the same to mid-level skilled workers and more to those in lower-skilled positions.

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But local market factors mean the comparison may vary widely among municipalities. And statewide comparisons can’t be done on a position-by-position basis, since public-sector jobs such as police and firefighters don’t have private-sector equivalents.

The solution for academic researchers is a “human capital” approach, in which workers are compared on factors that affect compensation rather than on the specific occupation. Some studies include dozens of variables, the primary ones being education, experience, the skill required by a given job and the number of hours worked.

This doesn’t yield results for specific entities — that is addressed in a flurry of local studies commissioned after Act 10. But it can show on a statewide basis how public and private workers compare in terms of pay and benefits — depending on whom you believe.

Studies vary on compensation comparison

Three recent studies examining pay and benefits use different methods and come to disparate conclusions.

Andrew Biggs of the American Enterprise Institute and Jason Richwine of the Heritage Foundation wrote in a May 2012 study for the conservative American Enterprise Institute that state of Wisconsin employees are paid 22 percent more than their private-sector counterparts. State workers’ total compensation was about 29 percent higher before Act 10, they said.

The study showed salaries are roughly equivalent between the public and private sectors, but benefits are a different story. Even after Act 10, state workers’ pensions are nearly five times as valuable as those in the private sector, and health benefits are about twice as generous.

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The study presumes salaries are equal because the authors’ analysis showed state and local government wages ranged from 5.6 percent higher to 5.1 percent lower, depending on the methodology and data used.

A November 2012 study from the MacIver Institute, a conservative Madison-based think tank, said Wisconsin’s public-sector employees received pay and benefits 19 percent above the private sector. The study, co-authored by William Even, an economics professor at Miami University in Ohio, covers both state and local government employees but does not account for Act 10 changes since it uses data from 2007-11.

Keefe said Wisconsin’s state and local public employees received pay and benefits totaling 4.8 percent less than their private-sector counterparts — even before Act 10 reduced the value of public benefits.

The MacIver Institute study differed from the others in not taking into account the size of the employer. Larger companies generally pay higher wages and benefits, and government entities are relatively large, so the studies by Keefe and Biggs compared salaries only to private firms of 100 employees or more.

Biggs also adjusted his calculations to reflect the better job security in the public sector.

Pensions key to study differences

The main difference among the three studies arises from disagreement over the value of public pensions.

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Olivia Mitchell, executive director of the Pension Research Council at The Wharton School in Pennsylvania, said the rate of interest used in the calculations is crucial, since the pension plan’s cost to taxpayers rises by nearly 25 percent with every 2 percent reduction in the assumed interest rate.

Most government agencies assume an 8 percent rate of return in determining how much to pay into the pension fund annually to yield the promised payouts at retirement. Keefe’s study calculated pension value simply on the amount paid in by the employers. He said the methodology used in the other two studies is “extremely conservative” and assumes “virtually no return” on the pension fund.

“Basically they calculate it in a way that to me makes no sense,” Keefe said of Biggs’ and Richwine’s study.

His study came before Act 10 increased the employee pension contribution to 5.8 percent, equal to the employer contribution.

Biggs and Richwine used a rate of return of approximately 4 percent in their calculations, which Biggs said is an accurate estimate for a no-risk investment and is on par with a government bond rate. Public pension amounts are backed by the government and carry no risk to employees, unlike a typical private-sector retirement plan that has no guaranteed value at retirement.

Biggs said the Congressional Budget Office, the White House Office of Management and Budget, the Federal Reserve and other government agencies use an approach similar to his in valuing public pensions.

Even, who did the MacIver Institute study, also used a return rate of about 4 percent. He said if he assumed an 8 percent rate, as Keefe did, his study would have shown a 9 percent premium for public workers in Wisconsin, instead of 19 percent.

“No one who has a 401(k) plan would be correct in assuming they’re going to earn 8 percent on their money for the rest of their life,” Even said. “You’re making a promise that is backed by the faith of the state government, so the thinking is you should assume an interest rate that the state should borrow at. … We assumed a 4 percent rate, and if anything I think in today’s world that’s probably a little generous.”

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Keefe said he used an 8 percent rate of return because that is the average for public pension plans in the U.S. Census region of which Wisconsin is a part. The Wisconsin Employee Trust Fund itself uses a 7.2 percent rate of return when calculating how much money is needed to fulfill future pension obligations. The Pew Center on the States reported in June that Wisconsin has the nation’s only fully funded state pension plan.

Jean-Pierre Aubrey, assistant director of state and local research at the Center for Retirement Research at Boston College, said both methods can be correct. He said Keefe’s use of the 8 percent figure is acceptable if a study is calculating the cost to employers, but a lower rate should be used in comparing public employee pay to private sector pay.

Aubrey said his group typically uses a rate of about 6 percent in calculating pensions.

Mitchell, who agreed with the conservative approach used by Biggs and Even, said the interest rate should reflect the rate at which a state or municipality borrows money — typically around 4 percent. She said it’s in line with the private sector, which is required by federal regulators to use pension rates of return that reflect the corporate bond rate.

“There we have some proof in the pudding that 8 percent is probably not a rate that reflects the true security of the promises that are being made, and which the taxpayers are going to have to pay for in the event that shortfalls result,” Mitchell said.